The cost basis of a mutual fund is essentially the price you pay at the time of purchase plus the price for any reinvested dividends you own directly, with certain adjustments. Cost basis is important because you ultimately are taxed based on any gain or loss when you sell your shares.
When you purchase shares in a single transaction, cost basis may be relatively easy to calculate. But if you have purchased shares over time, paid different share prices, paid sales commissions, and reinvested dividends and long-term capital gain distributions, the calculation becomes more complex. You and your tax professional may choose among two accounting methods, depending on your situation.
The specific identification method permits you to specify shares to be sold to potentially obtain the best possible tax treatment. You can use specific identification if you have not previously used the average cost method that is explained on this page.
The average cost method averages the purchase price of all your shares including reinvested dividends and calculates the gain or loss on the sale based on that average cost. The earliest shares purchased are deemed to be sold first for purposes of determining the holding period.
When you have used the average cost method for shares of a particular fund, you cannot subsequently change to the specific identification method without permission from the IRS. Also, you must specifically state on your federal tax return if you are using the averaging methods.
How may the 2006 RiverSource® mutual fund mergers affect cost basis calculation?